UK Inflation Rate Holds at 3%

It was announced today that the UK’s inflation rate has surprisingly held at 3% when a decrease had been forecast. It was expected that the impact of the pound’s fall in value since the Brexit vote on the cost of imports would have eased off, helping to loosen the squeeze on household budgets. However, that has not proven to be the case and the consumer price index held at 3% in January. That is the same level as during December and only fractionally off November’s 6-year high of 3.1%.

Inflation failing to ease to 2.9% as expected increases the chances of the Bank of England hiking interest rates in May. Last week it said it was already considering doing this “somewhat earlier and to a greater extent than previously expected”. The central bank is targeting a reduction of inflation to back to its 2% target within 2 years and increasing the cost of borrowing by a greater degree now looks like it will be necessary if that is to be achieved.

One positive element to the CPI breakdown produced monthly by the Office for National Statistics was that fuel prices did rise more slowly than during January last year and that the pace at which food prices are increasing is slowing. With much of the UK’s food supplies relying on imports, a weaker pound has had a particularly strong impact in this area and prices have risen sharply since 2016.

January’s unchanged inflation reading means that future unwinding of price pressures are now likely to be very gradual. Core inflation, which discounts fuel and food prices, rose to 2.7%, from 2.5% in December. A tight labour market is another Brexit influence and the resulting upwards pressure on wages is forcing companies to pass the expense over to end consumers.

Aberdeen Standard Investments’ chief economist Lucy O’Carroll believes it is now inevitable that the BoE will implement a succession on interest rises to force inflation down. Quoted in The Times, she commented:

“We’ve been waiting a number of years for this to happen. So even if inflation drops back a bit further from here, it looks likely to settle at a higher level than the Bank of England feels comfortable with. It will also mean slightly higher interest rates than we’ve been used to.”

With interest rates also rising in the USA, equities could come under further pressure this year as alternatives such as bonds and cash savings become more attractive in comparison. Something for those investing online in stocks and shares SIPPs and ISAs to keep in mind.